Registered Retirement Savings Plan (RRSP)

You know you should be investing in an RRSP, you’ve been told so repeatedly. You may even have a basic understanding of why you should be contributing to an RRSP. RRSP season arrives quickly on the heels of the New Year, which means many of us are rushing to make our RRSP contributions before the March 1st deadline. If you’ve never had an RRSP before, this is a good place to begin.

What is an RRSP?

RRSP stands for Registered Retirement Savings Plan. It is an investment account registered with the Canadian federal government designed to help you save money for your retirement on a tax-sheltered basis. It can contain a variety of investments, such as treasury bills, GICs, mutual funds, bonds, equities and savings deposits.

Why should I open an RRSP?

An RRSP can help you supplement your retirement income, giving you the freedom to enjoy your golden years with more financial security. The primary advantage of contributing to an RRSP is the tax benefits it offers, especially when compared to other investment accounts. The income earned in your RRSP is not taxed as long as it stays in the account. Because the money is tax sheltered, the total value grows more quickly than it would in other accounts.

What are the pitfalls of an RRSP?

You must pay tax when you withdraw the money from your RRSP. However, by the time you start collecting at retirement, you’ll likely be in a lower tax bracket than you were during your working years which means you’ll pay less tax when you withdraw your funds.

What is the maximum RRSP contribution limit?

The maximum allowable contribution to an RRSP changes every year, so be sure to check with the CRA or with your accountant.

For example, say that the maximum you could contribute to an RRSP is 18% of your earned income, up to a maximum of &dollar;26,230. This doesn’t mean you’re not allowed to put more money into the RRSP, it just means that you cannot claim a deduction on the extra amount.

Is there more than one type of RRSP?

Yes, there are three types of RRSPs:

Individual RRSP: This is registered in your name and your name only. The investments held in an Individual RRSP, and the tax advantages associated with them, belong solely to you.

Spousal RRSP: This is registered in the name of your spouse or common-law partner. You contribute to this account and can take advantage of the tax deduction, but they own the investments within the account. To qualify for a spousal RRSP, you must:

have lived together as a couple for at least 12 months

have a child together by birth or adoption, or

share custody and support of your partner’s children from a previous relationship

Group RRSP: These are common among employers who offer Group RRSPs as part of a benefit plan. Typically, your RRSP contributions are automatically deducted from your pay, and your employer may match or add to them, helping you save more money, faster. The benefits of Group RRSPs are that the employer usually pays the costs of opening and managing the plan. On the flip side, there may be limitations to the investment options, and the rules about when and how much money you can withdraw from the plan will vary depending on your employer and the financial institution holding the accounts.

What is the difference between an RRSP and a TFSA?

TFSA stands for Tax Free Savings Account. While an RRSP is tax deductible, you’re essentially locking your money away for retirement – that’s why the early withdrawal fees are in place. Conversely, with a TFSA, your contributions and investment income are tax sheltered, but you can gain access to your money without penalty. Unlike the RRSP, which allows you to deduct contributions for income tax purposes, the TFSA contributions are not deductible in that way.

For example, if you earn &dollar;40,000 per year, and you contribute &dollar;3,000 to an RRSP, you’ll only pay income tax on &dollar;37,000. If you put that &dollar;3,000 into a TFSA rather than an RRSP, you’ll pay income tax on &dollar;40,000. In both cases, the &dollar;3,000 and investment earnings are tax sheltered.

When is the deadline to make an RRSP contribution?

Assuming you’re 70 years or younger, the RRSP contribution date is March 1st. It’s the same every year. However, December 31st of the year you turn 71, is the last day you can contribute to your own RRSP.

What are RRSP withdrawal rules?

While it may sometimes be tempting to dip into your retirement savings before you’re actually retired, you’ll want to think twice before doing so. There are two main tax consequences for early withdrawal:

The financial institution holding your RRSP investments will hold back the tax on the amount you take out, and pay it directly to the government. In Ontario, the rate varies between 10-30% depending on how much you’re taking out. In Quebec, it’s between 5-15%, and provincial tax is also withheld.

The amount you withdraw becomes taxable income. So if you take &dollar;20,000 out of your RRSP, come tax time you’ll have to claim that &dollar;20k as income. That means if you were earning &dollar;40,000 per year as a salary, you’ve bumped that up to &dollar;60,000 because you took &dollar;20k out of your RRSP early. The other thing to watch out for here is that you don’t accidentally bump yourself into a higher tax bracket, in which case you’ll owe the government even more income tax.

Fortunately, there are some exceptions to the RRSP withdrawal rules. In some cases, you can borrow money from your RRSP without paying a tax penalty. They are:

First-time homebuyers can borrow up to &dollar;25,000 from the RRSPs to use as a down payment. As long as you pay the withdrawal amount back within 15 years, you won’t pay any tax on that money. Check the Home Buyers’ Plan (HBP) for more info.

Students may also be able to borrow cash from their RRSPs to pay for education or training expenses – up to &dollar;20,000 each for both you and your spouse. The catch is that you can only take out up to &dollar;10,000 per year, and it has to be paid back within 10 years to avoid paying tax on the withdrawn amount.

Whether you’re looking to compare registered retirement savings plans, or you want to compare rates for other banking products, we can help you secure the best RRSP for you. Compare rates now!

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